Gross Domestic Product - PowerPoint PPT Presentation

Gross Domestic Product. What is gross domestic product (GDP)? How is GDP calculated? What is the difference between nominal and real GDP? What are the limitations of GDP measurements? What are other measures of income and output? What factors influence GDP?. What Is Gross Domestic Product?.

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Nominal GDP is GDP measured in current prices. It does not account for price level increases from year to year.

Nominal and Real GDP

Year 1 Nominal GDP

Year 2 Nominal GDP

Year 3 Real GDP

Suppose an economy‘s entire output is cars and trucks.

In the second year, the economy’s output does not increase, but the prices of the cars and trucks do:

To correct for an increase in prices, economists establish a set of constant prices by choosing one year as a base year. When they calculate real GDP for other years, they use the prices

from the base year. So we calculate the real GDP for Year 2 using the prices from Year 1:

This year the economy produces:

10 cars at $16,000 each = $160,000

+ 10 trucks at $21,000 each = $210,000

Total = $370,000

10 cars at $15,000 each = $150,000

+ 10 trucks at $20,000 each = $200,000

Total = $350,000

This new GDP figure of $370,000 is misleading. GDP rises because of an increase in prices. Economists prefer to have a measure of GDP that is not affected by changes in prices. So they calculate real GDP.

Since we have used the current year’s prices to express the current year’s output, the result is a nominal GDP of $350,000.

An expansion is a period of economic growth as measured by a rise in real GDP. Economic growth is a steady, long-term rise in real GDP.

Peak

When real GDP stops rising, the economy has reached its peak, the height of its economic expansion.

Contraction

Following its peak, the economy enters a period of contraction, an economic decline marked by a fall in real GDP. A recession is a prolonged economic contraction. An especially long or severe recession may be called a depression.

Trough

The trough is the lowest point of economic decline, when real GDP stops falling.

When an economy is expanding, firms expect sales and profits to keep rising, and therefore they invest in new plants and equipment. This investment creates new jobs and furthers expansion. In a recession, the opposite occurs.

Interest Rates and Credit

When interest rates are low, companies make new investments, often adding jobs to the economy. When interest rates climb, investment dries up, as does job growth.

Consumer Expectations

Forecasts of a expanding economy often fuel more spending, while fears of recession tighten consumers' spending.

External Shocks

External shocks, such as disruptions of the oil supply, wars, or natural disasters, greatly influence the output of an economy.

If population grows while the supply of capital remains constant, the amount of capital per worker will actually shrink.

Government

Government can affect the process of economic growth by raising or lowering taxes. Government use of tax revenues also affects growth: funds spent on public goods increase investment, while funds spent on consumption decrease net investment.

Foreign Trade

Trade deficits, the result of importing more goods than exporting goods, can sometimes increase investment and capital deepening if the imports consist of investment goods rather than consumer goods.